Reduce tax by upping pension contributions

Published on Friday 15 February 2008 20:12

WITH the end of the tax year approaching, now is the time to consider taking advantage of the generous contribution allowances that are available for pension contributions (both personal and occupational).

Personal contributions for 2007-8 are capped at 100 per cent of income and further contributions can be made by an employer or other third party, providing the total of all contributions made does not exceed the 225,000 annual allowance figure.

Although most people will not be able to take full advantage of the annual allowance, the fact that substantial contributions can be made should not be ignored. It's a case of use it or lose it where the annual pension contribution allowance is concerned.

Higher-rate tax payers can use it as a way of reducing or even eradicating their higher rate tax exposure. By making pension contributions equal to the level of income exposed to higher rate tax, the higher rate tax liability can be eradicated completely. Individual contributions are (usually) paid net of basic rate tax relief, and then the additional marginal relief reclaimed via self assessment.

Mitigating higher-rate tax liabilities can be achieved irrespective of whether the individual concerned is a member of an occupational pension scheme or has a personal pension. Members of an occupational scheme can make contributions to an in-house additional voluntary contributions (AVC) scheme or make contributions to an external personal arrangement. Certain restrictions may apply to the in-house AVC options, and it will depend upon the overall scheme rules as to how much may be paid into the scheme in any one year using this method.

Those investors who are concerned about current investment market volatilities should not be put off from making extra lump-sum pension contributions. If you have a self-invested personal pension (SIPP), the contribution can be left in the SIPP bank account until such time as the policy holder feels that investment conditions have improved.

Similarly, those with a standard personal pension provided by a life company will usually have access to a money fund or deposit fund (these are funds that invest in the money markets and not bank accounts as such) where the contribution can be held initially, and then switched (either gradually or at one go) into other funds as and when the investor feels that the time is right. Most providers will provide a number of free fund switches in any one policy year.

Chartered financial planner, director, AB1 Financial Planning